Starting with 10.000. Making 100% each year.
It will only take 8 years to make 1 million.
Showing posts with label Money Management. Show all posts
Showing posts with label Money Management. Show all posts
Objective on Money
Your purpose is not to be right at all time.
But not too loose when you are wrong, and win when you are right.
This requires getting out early.
The purpose number one: protect the investment capital. Opportunities come and go. There will be always a new one.
But not too loose when you are wrong, and win when you are right.
This requires getting out early.
The purpose number one: protect the investment capital. Opportunities come and go. There will be always a new one.
Investment Game
In investment game (not trading), put your stops at 8% of the money invested. If 8% minus, sell right away.
Common mistake: not selling but hoping.
With slippage, 8% becomes 10% already. Don't make it worse by hesitating.
In classical money management advice, you don't want to loose more than 1% of your capital in investment.
Common mistake: not selling but hoping.
With slippage, 8% becomes 10% already. Don't make it worse by hesitating.
In classical money management advice, you don't want to loose more than 1% of your capital in investment.
How much can you make?
If you only make 1% in a day and you start with $1000, you would have $1.000.000.000 in less than four years.
If you trade $10.000 on Forex, you can have $100.000 in one day e.g entering and exiting USD/JPY at the very right moment.
Assuming that these targets are possible.
If you trade $10.000 on Forex, you can have $100.000 in one day e.g entering and exiting USD/JPY at the very right moment.
Assuming that these targets are possible.
How much to trade?
Keep trading account small enough to stay under the radar of your dealer. Dealers might push the price in one direction if that is in their benefit. If you trading account is small, it is dwarfed by other trading accounts so getting some profits here and there will stay under the radar - meaning: it is being dwarfed how much others loose while you win a little.
What is the chance of loosing?
With back-testing you can get some idea what is the probability of a winning trade versus a loosing one.
Loosing trades, especially, happening in a row eat up the money of the trader. This is why people need money management.
However, counting the probability of loosing trades is very easy. It is 50%.
Price moves up or down. 50-50% chance of loosing or winning no matter if it is short trade or a long trade.
I am not sure that even with backtesting you get a better answer than 50-50. Why? It is called backtesting drawdown. Backtested strategies tend to get weaker as time goes forward.
Loosing trades, especially, happening in a row eat up the money of the trader. This is why people need money management.
However, counting the probability of loosing trades is very easy. It is 50%.
Price moves up or down. 50-50% chance of loosing or winning no matter if it is short trade or a long trade.
I am not sure that even with backtesting you get a better answer than 50-50. Why? It is called backtesting drawdown. Backtested strategies tend to get weaker as time goes forward.
Mathematics
So that I don't have to figure out the next time again when I need them.
The following must be true for profitable trades:
1 < (Avarage win * win frequency) / ( Avarage loss * loss fequency).
The above is kind of obvious.
Calculating losses in percentage:
Loss percentage all in all: 1 - ( 1 - percentag of loss per trade) ^ number of losses in a row
10 losses with 2% losses per trade result in 18.3$ loss on the account
10 losses with 3% loss per trade result in 26.3% loss on the accoutn.
Now it is possible to calculate overal account risk percentage but I hate to get that mathematical about this.
The following must be true for profitable trades:
1 < (Avarage win * win frequency) / ( Avarage loss * loss fequency).
The above is kind of obvious.
Calculating losses in percentage:
Loss percentage all in all: 1 - ( 1 - percentag of loss per trade) ^ number of losses in a row
10 losses with 2% losses per trade result in 18.3$ loss on the account
10 losses with 3% loss per trade result in 26.3% loss on the accoutn.
Now it is possible to calculate overal account risk percentage but I hate to get that mathematical about this.
S&P 500 average growth
From 1951 - 1991 the avarage S&P growth was 13% per year.
This is the benchmark. The absolute minimum to be achived by any trading.
Well, in USD at least. But let's not compare what 13% today what it would mean in Gold (this year 13% gain is about 1% loss).
From 1997 - 2007, S&P 500 growth was 7.61% on avarage. (-22.1 % in 2002 so fluctuation is very high).
This is the benchmark. The absolute minimum to be achived by any trading.
Well, in USD at least. But let's not compare what 13% today what it would mean in Gold (this year 13% gain is about 1% loss).
From 1997 - 2007, S&P 500 growth was 7.61% on avarage. (-22.1 % in 2002 so fluctuation is very high).
Various Techniques
There are various money management strategies.
First. One could adjust to amount of risk taken to the likelihood of each trade. First, you only trade with small capital. And when the odds are in your favour, you commit a larger capital in proportions. I don't have a strategy that would use this sophisticated money management but in theory this might be needed.
Second. Don't count the risk on "individual trades". Instead counting the risk on a series of trades. Since he risk is counted on a serious of trades, it is possible to take larger financial risk on the series. The statistical likelihood of loosing is less. So this way, I can commit 10% of risk capital instead of 1%.
Third. Scaling in and out of risk. If I have 10.000 trading capital, and I would be willing to risk only 1% on each trade. I could only risk 100 on the trades. And this result in a very low profit ratio. Higher risk capital gives higher potential gains.
In the scaling strategy, I would risk 10% of the remaining capital in each trade. (10% is an example here.)
If I loose, I have 90% of my capital left, so again I only take 10% of the risk of this capital. And so on. This way, I can suffer a large serious of losses and still come back. In fact, even after 10 losses, I would still trade with risking 348. A considerable larger amount than risking 100 on a trade.
with higher capital in each trade, if I would only risk 1% on each trade. So I would have a potentially larger change of making profit.
Fourth. This would be a combination of the second and third strategy. If I have a strategy that has an 80% probability of winning trades (with very low deviation from the average), I can easily risk more than 10% on each trade. Mathematically, it would be possible to calculate the ideal amount but this is not a mathematical dissertation.
First. One could adjust to amount of risk taken to the likelihood of each trade. First, you only trade with small capital. And when the odds are in your favour, you commit a larger capital in proportions. I don't have a strategy that would use this sophisticated money management but in theory this might be needed.
Second. Don't count the risk on "individual trades". Instead counting the risk on a series of trades. Since he risk is counted on a serious of trades, it is possible to take larger financial risk on the series. The statistical likelihood of loosing is less. So this way, I can commit 10% of risk capital instead of 1%.
Third. Scaling in and out of risk. If I have 10.000 trading capital, and I would be willing to risk only 1% on each trade. I could only risk 100 on the trades. And this result in a very low profit ratio. Higher risk capital gives higher potential gains.
In the scaling strategy, I would risk 10% of the remaining capital in each trade. (10% is an example here.)
If I loose, I have 90% of my capital left, so again I only take 10% of the risk of this capital. And so on. This way, I can suffer a large serious of losses and still come back. In fact, even after 10 losses, I would still trade with risking 348. A considerable larger amount than risking 100 on a trade.
with higher capital in each trade, if I would only risk 1% on each trade. So I would have a potentially larger change of making profit.
Fourth. This would be a combination of the second and third strategy. If I have a strategy that has an 80% probability of winning trades (with very low deviation from the average), I can easily risk more than 10% on each trade. Mathematically, it would be possible to calculate the ideal amount but this is not a mathematical dissertation.
Win Per Pips
Assuming an USD account, the following is the profit per pip.
Let's assume we invest 10.000 USD in each trade with 1:100 leverage. Note: With 2-pip spread. Each of our trade would start with 2 pip minus, of course, but let focus now on the first pip in profit.
10.000 USD commands 10M USD with 1:100 leverage.
10M USD buys 1186,7M JPY. One pip profit is 0.1M JPY profit which is about 840 in USD.
So here is my basic 1-PIP win table:
Any currency pair where USD is the base currency will trade on 100 USD per pip.
The make the above trade, the account must minimum hold 10.000 EUR plus enough margin to cover for the minus pip moves.
Daily Moves
In the last one month period the daily moves in pip:
Automatic stops by the broker
Good idea to check what happens if zero cover remains on the account? That is 1000 traded, while the remaining cover the original was 1000 gets "eaten up by the pips against us".
Different brokers might execute this trade differently. In theory, we should have exactly 1000 EUR when the broker exited this trade. Some brokers, however, will exit the trade earlier. Some might exit it later leaving only 0 on the balance.
I think I would always use "stop-loss orders" on my trades, but it is good to check the above just in case.
Money Management
Money management is possible not by changning the levarge but by changing the bet size. That is trade only 1000 EUR at a time which is only 84$ change per pip. If I stop out on any trade that is in minus 12 pips, that is about 1000 EUR.
So on any trade, I risk 1000 EUR by trading only 1000 EUR, if my stop limit is 12 pips of entering the trade. That is 10 pips move in the wrong direction plus 2 pips initial spread.
If I have a trading capital of 100.000 EUR. For me the right way of trading is never to keep more than 2000 EUR on my trading account and only trade 1000 EUR at a time (keeping the other 1000 as cover for the minus pip moves.)
More on Money Management
Let's assume I am aiming for a large time period.
I put my stop on -50 pip but hoping for a profit, of course.
So -50 pip is the "risk" I take. Let say, my Forex trading capital is only 10.000 USD. And I don't want to risk more than 1% on any single trade. That is 100 USD risk, I am willing to take.
100 USD for the 50 pips risk. That is 2 USD per pip risk.
Unfortunatly, it also means that when I set up this trade, I can only profit 2 USD per pip on the plus side unless I am willing to take a higher risk.
From the above table: if I trade 10.000 USD, my risk per pip is 840 USD. That is 420 times higher than the risk I am willing to take.
So I must trade only 10.000/420 = 23.8 USD. Which will give me a risk of 2 USD per pip on the risk side, and a profit of 2 USD per pip on the plus side.
More on Money Management
This calculation demonstrates that with 10.000 EUR trading capital, the "1% risk" is not an easy target. Trading with 2 USD profits per pip takes quite some nerve and time to make a living on.
How can this be improved?
First, by not entering trades where the stop loss is 50 pips. Instead, always limiting the loss.
Second, a larger trading capital is needed to be both safe and profitable.
Third, it is good idea to use a statistically provable strategy or a "low risk/high probability" strategy for the trades. What does it mean?
If I could know that my strategy will never under any circumstances have a series of trades where there are more than 5 losses than wins. Example: a situation where trade results are "win, loss, loss, loss, win, loss, loss, loss, loss" can never happen as in this series there are more than 5 losses than wins.
So if we would know that this cannot happen - proven by backtesting or guaranteed buy the strategy we trade, we would only need to cover this 5 loose with our trading capital.
Can I find a trading strategy like that?
Let's assume we invest 10.000 USD in each trade with 1:100 leverage. Note: With 2-pip spread. Each of our trade would start with 2 pip minus, of course, but let focus now on the first pip in profit.
10.000 USD commands 10M USD with 1:100 leverage.
10M USD buys 1186,7M JPY. One pip profit is 0.1M JPY profit which is about 840 in USD.
So here is my basic 1-PIP win table:
JPY: $840
EUR: $100
GBP: $100
CHF: $80
Any currency pair where USD is the base currency will trade on 100 USD per pip.
The make the above trade, the account must minimum hold 10.000 EUR plus enough margin to cover for the minus pip moves.
Daily Moves
In the last one month period the daily moves in pip:
JPY: 10 - 156 pips
EUR: 11 - 178 pip
CHF: 9 - 174 pips
Automatic stops by the broker
Good idea to check what happens if zero cover remains on the account? That is 1000 traded, while the remaining cover the original was 1000 gets "eaten up by the pips against us".
Different brokers might execute this trade differently. In theory, we should have exactly 1000 EUR when the broker exited this trade. Some brokers, however, will exit the trade earlier. Some might exit it later leaving only 0 on the balance.
I think I would always use "stop-loss orders" on my trades, but it is good to check the above just in case.
Money Management
Money management is possible not by changning the levarge but by changing the bet size. That is trade only 1000 EUR at a time which is only 84$ change per pip. If I stop out on any trade that is in minus 12 pips, that is about 1000 EUR.
So on any trade, I risk 1000 EUR by trading only 1000 EUR, if my stop limit is 12 pips of entering the trade. That is 10 pips move in the wrong direction plus 2 pips initial spread.
If I have a trading capital of 100.000 EUR. For me the right way of trading is never to keep more than 2000 EUR on my trading account and only trade 1000 EUR at a time (keeping the other 1000 as cover for the minus pip moves.)
More on Money Management
Let's assume I am aiming for a large time period.
I put my stop on -50 pip but hoping for a profit, of course.
So -50 pip is the "risk" I take. Let say, my Forex trading capital is only 10.000 USD. And I don't want to risk more than 1% on any single trade. That is 100 USD risk, I am willing to take.
100 USD for the 50 pips risk. That is 2 USD per pip risk.
Unfortunatly, it also means that when I set up this trade, I can only profit 2 USD per pip on the plus side unless I am willing to take a higher risk.
From the above table: if I trade 10.000 USD, my risk per pip is 840 USD. That is 420 times higher than the risk I am willing to take.
So I must trade only 10.000/420 = 23.8 USD. Which will give me a risk of 2 USD per pip on the risk side, and a profit of 2 USD per pip on the plus side.
More on Money Management
This calculation demonstrates that with 10.000 EUR trading capital, the "1% risk" is not an easy target. Trading with 2 USD profits per pip takes quite some nerve and time to make a living on.
How can this be improved?
First, by not entering trades where the stop loss is 50 pips. Instead, always limiting the loss.
Second, a larger trading capital is needed to be both safe and profitable.
Third, it is good idea to use a statistically provable strategy or a "low risk/high probability" strategy for the trades. What does it mean?
If I could know that my strategy will never under any circumstances have a series of trades where there are more than 5 losses than wins. Example: a situation where trade results are "win, loss, loss, loss, win, loss, loss, loss, loss" can never happen as in this series there are more than 5 losses than wins.
So if we would know that this cannot happen - proven by backtesting or guaranteed buy the strategy we trade, we would only need to cover this 5 loose with our trading capital.
Can I find a trading strategy like that?
The Learning Curve
How much is my starting capital? If I have 100.000 Euros, and I only make 20% per year. That is only 20.000 Euros income to live on.
How long will it take to learn to trade even as well as 20% per year?
When will I be able to make more money with investment and trading?
If you go to play chess with a chess grandmaster, you know you are up against a heavy player and it will take years to be on a level to win games reliable on competitions. The same is going in my profession, it took long time for me to become so good at it to earn competitive salaries. Do I think that learning to trade - against all the amateur and professional people on the market - is hard?
Am I ready to quit my job and become a full time trader?
How long will it take to learn to trade even as well as 20% per year?
When will I be able to make more money with investment and trading?
If you go to play chess with a chess grandmaster, you know you are up against a heavy player and it will take years to be on a level to win games reliable on competitions. The same is going in my profession, it took long time for me to become so good at it to earn competitive salaries. Do I think that learning to trade - against all the amateur and professional people on the market - is hard?
Am I ready to quit my job and become a full time trader?
Minimize loss, Maximize win?
If I loose 10 time 1 Euro. And win 1 time 10 Eur. I am still loosing even though I have minized the losses. Even if there is no commision on Forex, I am still loosing time and my interest to trade.
Many books suggests that you only enter a trade where you win more than your risk. That is not a flawed rule as it is incomplete. It is also necessary to calculate the probability:
How many times do you win and how much? How many times do you loose and how much?
If I win 10 times 2 Euros. And loose 6 times 3 Eurs than I am in profit of 2 Euros on every 16 trades even tough my losses were greater than my wins.
Many books suggests that you only enter a trade where you win more than your risk. That is not a flawed rule as it is incomplete. It is also necessary to calculate the probability:
How many times do you win and how much? How many times do you loose and how much?
If I win 10 times 2 Euros. And loose 6 times 3 Eurs than I am in profit of 2 Euros on every 16 trades even tough my losses were greater than my wins.
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